As we expected, we have received many questions from readers since the release of Crypto TREND. In this edition, we answer the most common ones.
What changes are coming that could be game changers in the cryptocurrency sector?
One of the biggest changes affecting the cryptocurrency world is an alternative block validation method called Proof of Stake (PoS). We try to keep this explanation at a fairly high level, but it is important to have a conceptual understanding of what the difference is and why it is a significant factor.
Keep in mind that the technology behind digital currencies is called a blockchain, and most current digital currencies use a validation protocol called Proof of Work (PoW).
When using traditional payment methods, you must trust a third party, such as Visa, Interact, or a bank, or a check clearing house to process your payment transaction. These Trusted Entities are “centralized,” meaning they keep their own private records that record transaction history and the balance of each account. They will show you the events and you have to accept that it is correct, or start a dispute. Only the parties to the trade will see it.
With Bitcoin and most other digital currencies, accounting is “decentralized,” meaning everyone on the web gets a copy, so no one has to trust a third party, such as a bank, because anyone can check the information directly. This validation process is called a “decentralized consensus.”
PoW requires that “work” be done to validate a new event to access the block chain. In cryptocurrencies, validation is done by “miners” who have to solve complex algorithmic problems. As algorithmic problems become more complex, these “miners” will need more expensive and more efficient computers to solve all other problems. “Mining” computers are often specialized, typically using ASIC (Application Specific Integrated Circuits) chips, which are more skilled and faster in solving these difficult problems.
Here is the process:
- The events are bundled together into a “block”.
- Miners ensure that the events in each block are legal by solving a scatter algorithm puzzle game known as the “proof of work problem.”
- The first miner to solve a block of “proof of work problem” will be rewarded with a small amount of cryptocurrency.
- Once verified, the events are stored in a public block chain throughout the network.
- As the number of transactions and mines increases, so does the difficulty of solving decentralization problems.
While PoW helped get the blockchain and decentralized, unreliable digital currencies in motion, it has some real flaws, especially as these miners consume electricity in an attempt to solve “evidence of work problems” as quickly as possible. According to the Bitcoin Energy Consumption Index, a digital economist, Bitcoin miners use more energy than 159 countries, including Ireland. As the price of every Bitcoin goes up, more and more miners are trying to solve problems by consuming more and more energy.
All of this power consumption just to validate transactions has motivated many in the digital currency mode to look for an alternative method to validate blocks, and the leading candidate is a method called “Proof of Stake” (PoS).
PoS is still an algorithm and has the same purpose as a work certificate, but the process to achieve the goal is quite different. There are no miners in PoS, but instead we have “validators”. PoS relies on the trust and knowledge that all people who reinforce transactions have a skin at play.
In this way, instead of using energy to respond to PoW problems, the PoS validator is limited to validating a certain percentage of events that reflect his or her ownership. For example, a validator that owns 3% of the available ether can theoretically validate only 3% of the blocks.
In PoW, the probability of solving a work-proof problem depends on how much computing power you have. With PoS, it depends on how much cryptocurrency you have in the “bet”. The higher the stake you have, the greater the chance of solving the block. Instead of winning cryptocurrencies, the winning validator will receive transaction fees.
Validators feed their input by “locking in” some of their fund realities. If they try to do something harmful against the network, such as creating an “incorrect block”, their bet or deposit will be forfeited. If they do their job and do not break the network, but do not get the right to confirm the block, they will get their bet or deposit back.
If you understand the basic difference between PoW and PoS, that’s all you need to know. Only those who intend to become miners or validators need to fully understand all two of these two validation methods. The majority of the general public who want to own cryptocurrencies simply buy them through the stock exchange and do not participate in the actual mining or validation of block transactions.
Most of the cryptosector believes that in order for digital currencies to survive in the long run, digital tokens need to switch to the PoS model. At the time of writing, Ethereum is the second largest digital currency behind Bitcoin, and their development team has been working on their PoS algorithm for the past few years. We expect Casper to be introduced in 2018, putting Ethereum ahead of all other major cryptocurrencies.
As we have seen in this area in the past, major events such as the successful introduction of Casper can raise Ethereum’s prices much higher. We will keep you updated on future issues of Crypto TREND.